SEC Adopts Money Market Fund Reform Rules

The new rules build upon earlier reforms adopted by the SEC,
circa March 2010, that were designed to reduce the interest rate, credit and
liquidity risks present within money market fund portfolios. The SEC says
that, when it adopted the 2010 amendments, it soon after recognized that the
recent financial crisis raised additional questions of whether more fundamental
changes to money market funds might be warranted (see “SEC Analyzes
Money Market Fund Reform”).

In short, the rule amendments require providers to establish
a floating net asset value (NAV) for institutional prime money market funds,
which will allow the daily share prices of these funds to fluctuate along with
changes in the market-based value of fund assets. The rule updates also provide
non-government money market fund boards new tools, known as liquidity fees and
redemption gates, to address potential runs on fund assets.

“Today’s reforms fundamentally change the way that money
market funds operate,” explains SEC Chair Mary Jo White. “They will reduce
the risk of runs in money market funds and provide important new tools that
will help further protect investors and the financial system. Together, this
strong reform package will make our markets more resilient and enhance
transparency and fairness of these products for America’s investors.”

As the SEC explains, money market funds are used by
businesses, state and local governments, and other organizations to invest cash
until it is needed. Further, money market funds are offered as an investment
option in 67.1% of all defined contribution plans in the U.S., according to the
2013 PLANSPONSOR Defined Contribution Survey.

With
a floating NAV, institutional prime money market funds (including institutional
municipal money market funds) are now required to value their portfolio
securities using market-based factors and sell and redeem shares based on a
floating NAV. The SEC says these funds no longer will be allowed to use the
special pricing and valuation conventions that currently permit them to
maintain a constant share price of $1.00.

With liquidity fees and redemption gates (a common type of
restriction that is put on an investment fund that limits the amount of
withdrawals that are allowed from the fund during a specific period) money
market fund boards gain the ability to better manage outflows during periods of
stress. The final rules also include enhanced diversification, disclosure and
stress testing requirements, as well as updated reporting by money market funds
and private funds that operate like money market funds. The final rules provide
a two-year transition period to enable both funds and investors time to fully
adjust their systems, operations and investing practices.

“These reforms are important both to investors who use money
market funds as a cash management vehicle and to the corporations, financial
institutions, municipalities and others that use them as a source of short-term
funding,” Champ adds.

The SEC also issued a related notice proposing exemptions
from certain confirmation requirements for transactions effected in shares of
floating NAV money market funds. Additionally, the SEC re-proposed
amendments to the Commission’s money market fund rules and Form N-MFP to
address provisions that reference credit ratings. As the SEC explains, the
re-proposed amendments would implement section 939A of the Dodd-Frank Wall
Street and Consumer Protection Act of 2010, which requires the Commission to
review its rules that use credit ratings as an assessment of credit-worthiness,
and replace those credit-rating references with other appropriate standards.

The
rules will be effective 60 days after their pending publication in the Federal
Register, and the re-proposal will have a 60-day public comment period
following its publication in the Federal Register.

Initial industry responses to the SEC’s rule updates were
generally supportive of the move, but concerns remain. Investment Company
Institute (ICI) President and CEO Paul Schott Stevens, for example, issued a
statement saying the SEC “has proceeded thoughtfully to craft a robust and
meaningful final rule that will impose significant structural changes across
the industry, particularly on money market funds used by institutional
investors.”

Stevens adds, “Through six years of deliberations, the
Securities and Exchange Commission has received extensive analysis and comment
from the sponsors of money market funds, investors, issuers, and many other
parties. … While we may question some aspects of the rule as adopted, we
strongly believe that the SEC has the long regulatory experience and deep
technical expertise required to strike the proper balance, making money market
funds more resilient in times of financial stress while preserving the utility
and value of these funds for investors.”

Stevens says the ICI will work with the SEC and its own
member firms to ensure a smooth transition to the new rules as they are
implemented over the next two years.

Another industry group, the Securities Industry and
Financial Markets Association (SIFMA), issued a similar statement from its
president and CEO, Kenneth Bentsen, Jr.

“Money market funds play a vital role in capital formation
and credit availability by providing retail and institutional investors with an
attractive option for cash investing and enabling businesses to access the
short-term funding they need to carry out their daily operations, pay employees
and spur economic growth,” Bentsen writes. “SIFMA commends Chair White's
leadership in navigating the rule to completion and acknowledges the balanced,
inclusive and transparent approach taken by the SEC in developing this
regulation. Today's final rule will provide the marketplace with a degree of
certainty regarding the future of these funds.”

Bentsen adds that, upon first review, SIFMA is “encouraged
that the SEC has limited the new floating NAV requirement to institutional
prime funds.”

“We agree that it is appropriate to carve out retail and
government money market funds from a floating NAV requirement, as these funds
have not shown susceptibility to destabilizing runs. Importantly, we also
believe the SEC has appropriately reframed the determination of retail funds by
looking at fund policies and procedures designed to limit investors in these
funds to natural persons as opposed to redemption limits as originally
proposed, as the nature of investors is a better indicator of a true retail
fund. Further, we support the SEC's decision to move forward with a voluntary
fees and/or gates program that relies on the expertise of fund boards, instead
of generally imposing a broad fees and/or gates mandate.”

Bentsen concludes by saying SIFMA will continue its review
of the final rule in concert with member firms. “While we may not agree with
every provision of the final rule,” he adds, “we are committed to helping our
members implement the new requirements, including necessary tax and accounting
changes, so the industry can move forward and these funds can continue to
provide critical capital formation and investment benefits that help grow the
American economy."